Econ 100A Ans to PS5 - Department of Economics University...

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Econ 100A-Spring 2007 Page 1 Problem Set 5 Answers Department of Economics Spring 2007 University of California, Berkeley Prof. Woroch Economics 100A PROBLEM SET 5 ANSWER SHEET TRUE or FALSE : For each statement below, decide whether it is true or false and provide assumptions you find necessary to come to that conclusion. 1. In a Bertrand duopoly with a homogeneous good, an increase one firm’s marginal cost will result in an increase in both firms’ equilibrium prices. [Could be true or false. Consider the case where the two firms have different costs, and assume they both have constant marginal (=average) costs. Then the Bertrand equilibrium has price equal to (or slightly below) the marginal cost of the high-cost firm. If the cost increase occurs for the high-cost firm, then equilibrium price will increase. If it occurs for the low-cost firm, there will be no effect on equilibrium price (as long as the increase is not so large as to turn the low-cost firm into the high-cost firm). If duopolists’ products are differentiated, the statement will be True. In that case, Firms that compete a la Bertrand have reaction functions that are increasing. In words, when a rival raises its price, a firm will react by raising its price as well. Now, a rise in a firm’s marginal cost will naturally result in it charging a higher price, i.e., shifts out its reaction function. Since its rival’s reaction is increasing, the new equilibrium will have both prices higher.] 2. If each new breakfast cereal brand must pay a fixed “slotting allowance” to get space on the shelves of grocery stores, then the number of brands in a monopolistically competitive industry will fall, and the market share of the surviving brands will increase. [This can be true if the monopolistically competitive industry is in long run equilibrium, i.e., firms freely enter and exit in response to profit. After the increase in the fee, which amounts to an increase in fixed cost, firms no longer break even as the original equilibrium price. Since that was the only price that had firms break even at the lower cost, the corresponding number of firms is not sustainable. The number of firms must fall in order to be profitable at the higher cost, and hence, the number of brands must fall since there is one brand per firm in the monopolistic competition model. Since another feature of that model is that brands are treated symmetrically by consumers, the market share of each firm in the new equilibrium is greater simply because there are fewer firms. Note that this does not say whether firms produce more or less in absolute terms in the new equilibrium.] 3. When the prisoners’ dilemma is repeated infinite number of times, the likelihood of a cooperative outcome occurring as a Nash equilibrium is greater when the players place no value on payoffs beyond the current period.
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This note was uploaded on 07/15/2010 for the course ECON 100A taught by Professor Woroch during the Spring '08 term at University of California, Berkeley.

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Econ 100A Ans to PS5 - Department of Economics University...

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